As new FDI rules kick in, Walmart may abandon Flipkart if it isn't able to see a long-term path to profitability.

The brokerage said in a report dated February 4 that “an exit is likely, not completely out of the question, with the Indian ecommerce market becoming more complicated”.

Wall Street biggie, Morgan Stanley said Walmart may exit Flipkart in a similar move to what Amazon did in China if the retail giant can’t see a long-term path to profitability.

The brokerage firm said in a report dated February 4 that “an exit (by Walmart) is likely, and not completely out of the question, with the Indian e-commerce market becoming more complicated”. The report comes in the wake of the new Foreign Direct Investment (FDI) rules for the India’s ecommerce sector which were implemented by the government on February 1.

The government’s Press Note 2 issued in December last year bars online marketplaces and their group companies from owning their vendors and prohibits them from controlling the inventory sold on their platforms. “There is a precedent for an exit as Amazon retreated from China in late 2017 aer seeing that the model no longer worked for them,” the Morgan Stanley report titled ‘Assessing Flipkart Risk to Walmart EPS’ said.

Morgan Stanley said Flipkart may need to remove approximately 25% of its products from its site in light of the new rules. Smartphones and electronics would feel the greatest immediate impact because of the necessary changes to supply chains and existing exclusivity deals, the brokerage said.

“We estimate that Flipkart derives 50% of its revenue from this category, meaning Flipkart could face meaningful disruption and top-line pressure in the near term,” it said. Historically, Flipkart’s gross sales have been driven by smartphone and electronic sales which are high-priced.

Responding to ET’s query, a Walmart spokesperson said: “Despite the recent changes in regulations, we remain optimistic about the ecommerce opportunity in India given the size of the market, the low penetration of ecommerce in the retail channel and the pace at which it is growing. As Walmart scales in India, the company will continue to partner to create sustained economic growth across agriculture, food and retail. Future investments will support national initiatives and will bring sustainable benefits to the country.”

Amazon and Flipkart have been the most impacted online marketplaces and have seen a drop of around 25-35% in sales aer having to rejig their seller entities where they held an equity stake, as ET reported earlier in the week.

Amazon’s two top sellers — Cloudtail and Appario Retail — removed products sold by them aer the new guidelines kicked in on February 1 as they were joint ventures formed by the American online retail behemoth.

“Walmart is financially and strategically invested in India via Flipkart. We do not think it is considering walking away from its investment at this stage. It is still too early to say how the ecommerce landscape in India may change, " the report stated.

The new rules are intended to foster a more level playing field between small and large vendors on e-commerce marketplaces. They would negatively aect both Flipkart and Amazon given the vast majority of their sales (reportedly 70-80%) are said to come from "preferred sellers" which are companies that Flipkart and Amazon have equity stakes in or do a significant amount of business-to-business transactions with and this practice would be disallowed under the new rules. Flipkart and Amazon also oer a significant amount of exclusive deals, particularly in smartphones, which will be disallowed under new rule.

Last year, Walmart Inc picked up 77% stake in India’s largest online retailer Flipkart for $16 billion. The US retail giant pumped another $2 billion into Flipkart, pegging its value at $22 billion.

Morgan Stanley said the market's initial reaction to Walmart’s purchase of Flipkart was negative.“As investors gained comfort in Flipkart's ability to maintain rapid top-line growth while not incurring greater than expected losses, this discount largely dissipated,” the brokerage said. “Now that Flipkart's losses will likely rise, it once again becomes a bigger part of the Walmart investment narrative.”

The report further added that the total e-commerce sales in India could decelerate from 2018’s run rate of 50% in India as Flipkart and Amazon are forced to reduce purchases from a large set of sellers and eliminate exclusive deals. “Flipkart may need to remove 25% of its products from its site. In addition, our India Internet team believes smartphones and electronics would feel the greatest immediate impact.”

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